Wednesday, July 27, 2016

Alcohol and Tobacco: The Purchase Price vs the Full Price

I want to spell out in this post why it might be exceedingly
difficult to deter the use of harmful drugs. Spotty but useful information
about the market prices of illegal drugs exists, along with estimates of total consumption
and social costs. But there are two legal drugs that cause enormous social
harms, so I will fixate on them. Alcohol and tobacco are legal, so there is
good public information about the amounts sold and the social harms
attributable to them. I’ll give away the punchline: the purchase price of these
substances is a fraction of the full price, considering that people pay in
damaged health and lost productivity in addition to forking over the literal
dollar amount on the price tag.

Tobacco

I’m not doing a
thorough cost-benefit analysis, just a quick Googling and some
back-of-the-envelope order-of-magnitude estimates. I’m perfectly happy to
revise any of the figures I use in this post or redo a calculation with more
conservative or favorable assumptions. Everything I have about tobacco comes
from this short post by the CDC:

About 264 billion cigarettes are sold each year in the US.
At 20 per pack and about $7 per pack, that comes to a total of $92.4 billion in
revenues from cigarettes. There are other forms of tobacco use, but as
cigarette smoking is by far the most common and the most likely to lead to
heavy sustained use and serious health issues, I’ll ignore the others. Tobacco
related health costs are about $170 billion and productivity loss amounts to
$156 billion. These are mere accounting numbers. It’s hard to say what health
costs are faced by the smokers themselves. Perhaps the government pays for half
of that $170 billion, in which case you might be tempted to say “So the tobacco
users are only saddled with $85 billion in health costs!” However, who pays the
actual bills isn’t relevant to this discussion. I’m interested in the question:
What are the costs *to the smokers* of their bad habit? Even if that $170
billion is paid in full by the government, those medical bills still represent
a lot of suffering and disease faced by the smokers. It’s not as if the
expenditure magically cures the smokers’ illnesses.

Similarly for the productivity loss of $156 B. It might seem
like this is something that happens to someone else. The employer misses out on
the work his sick employee would have done. Or society as a whole misses out on
the work not done by sick or dead employees. But that’s a mistake. If you have
a bad habit that injures your own productivity, you will see that taken out of
your own earnings. Think of people who are too sick to work *at all*, or people
whose constant absenteeism catches up to them and they get fired. The CDC is
presenting these figures as if they are costs imposed by smokers upon the rest
of us, but mostly these costs fall on the smokers themselves. Yes, in the very
*near* term your boss suffers if you skip a day of work, but a chronic illness
will hit the smoker’s personal earnings by making him less employable.

Anyway, I don’t know how to adjust these cost figures to
come up with the cost faced by the smokers themselves, so I’ll use the raw
numbers. We have $92.4 billion in cigarette sales compared to $326 billion in smoking-related
costs (both annual figures). The non-price costs of smoking trump the price
costs, and there is a big enough margin that I don’t think any amount of
adjustment will flip that result.

Alcohol

Alcohol also has large social costs, but unlike in the case
of tobacco many of these costs fall on third parties. So I can’t just add up
the costs and say “These fall on the alcohol users” like I can for tobacco.
(Yes, I acknowledge that second hand smoke is a potential hazard to third
parties, but according to the CDC article above they are a small proportion of
the total costs.) I found an interesting breakdown of the costs in this study,
“Economic Costs of Excessive Alcohol Consumption in the United States, 2006.”
Unfortunately, this also follows a “strict accounting” approach. Where it says Alcohol
Abuse and Dependence costs $10.668 billion per year, it’s literally adding up
bills for counseling and rehabilitation. It’s not telling me what I’d *like* to
know, which is “the cost of the agony of knowing you’re bad habit has damaged
your life.” Notice how the vast majority of the costs are productivity losses.
I’ll continue with my argument that the bulk of these costs fall on the drinker.

Once again, many of these costs look at first blush like
things that happen to other people, but the $20.9 billion spent on “the
criminal justice system” isn’t just a drain on taxpayers. It also represents a
person languishing in prison or having his life ruined by a (perhaps deserved)
encounter with the justice system. That’s not to say none of that $20.9 billion
falls on other people, just that the alcohol abuser feels some portion of that.

Once again, I don’t have a clean way to convert these raw numbers
into the non-price cost faced by alcohol users, but let’s just say it’s in the
$150 billion per year range, including health, lost productivity, and
everything else.

Total revenue for alcohol sales is $211.57 billion according
to this article.
Now, I’m willing to believe that the vast majority of cigarette sales are to
smokers with a serious habit, most of whom are *actually* exposed to all those
health and productivity loss costs mentioned above. But that’s not going to be
true of alcohol. There are a great many casual drinkers who never engage in
reckless behavior, and for whom it would be unreasonable to say, “That beer you’re
drinking is contributing $1.70 worth of social costs!” It wouldn’t be fair to
blandly state that any and all alcohol consumption is contributing to the total
social cost. The costs come from a subset of drinkers who are *problem*
drinkers. These are the people who binge drink frequently enough to damage
their livers, or whose drunk driving occasionally kills another motorist. I’m
happy to use someone else’s estimate, but let’s generously say half of the
revenue is coming from heavy problem drinkers, the other from wine and
craft-beer sippers. Just as an order-of-magnitude estimate, it looks like the
money price of alcohol is trumped by the various health and
productivity-related costs. Above I’m getting about $150 billion in non-price
costs and about $100 billion in monetary costs (again, specifically for those
people who are at risk for alcohol-related health and productivity problems).
If I drop $5 on a 40 ounce bottle of malt liquor, I’m spending more like $12
when I factor in those other costs. (On the other hand, if I drop $10 on a
4-pack of craft beers, which I sip at the rate of one-per-sitting, those
additional health and productivity costs certainly aren’t relevant to me.)

General Lesson

I don’t think my general point is terribly controversial. My
above figures are hand-wavy, but if you think in terms of potential harms and
opportunity cost then clearly for many kinds of drug consumption the non-price
costs trump the actual price paid at the register (or to the dealer). Some
psychedelics, for example, essentially put you out of commission for a full day
(though most of these are surprisingly non-toxic, also cheap). And many
seriously addicted heroin users spend all day scrounging up enough money to get
their fix. (I’m remembering from David Simon’s “The Corner” a recovering junkie
giving a speech to a group of other recovering junkies: “We all know that
nobody works harder than a junkie!”) It would be silly to talk about the dollar
price of these substances when the *actual* price is “a day out of my life” or
“a full decade of my life” or perhaps even simply “my life.”

Given all this, it is ludicrous to think we can change
people’s behavior much via drug prohibition. Drug prohibition probably has a
significant effect on the market price of the drugs, and adds significant
non-monetary search costs in terms of finding a dealer. But the actual money
that changes hands is a small proportion of the full price of drug use. People
who are willing to pay the enormous health, productivity-loss, and opportunity
costs detailed above are unlikely to be deterred by a slightly higher price or
a legal slap on the wrist for a possession charge. And the data bears this out.
While there have been some economic studies that attempt to determine the
responsiveness of drug demand to price changes (these are trying to measure the
elasticity of demand for various drugs), the overall pattern of drug use over
the decades doesn’t seem to match any simple “price elasticity” story. There
are wildly fluctuating patters of use since we’ve collected data on them, where
one drug becomes popular then fades away to be replaced by another. Prices for
a pure gram of heroin and cocaine have dropped significantly since the 70s,
without a corresponding monotonic rise in use rates. (It appears that the
demand curve itself is shifting due to cultural reasons and momentary trends,
and this shift is more important than momentary movements along the demand curve.
I suspect all these econometric studies measuring the price elasticity of drugs
are an exercise of mathematical masturbation, given that the dollar price is
often a small piece of the full price.) If drug prohibition has any significant
effect on drug use, it’s probably because the illegal market makes the drugs so
much deadlier, though adulterants and wildly varying dosage. I’m willing to
believe that you could deter the purchase of something by attaching a death
penalty to it for a few random buyers. Adding harm to drug use raises the cost,
so you get less total drug use. However, if you’re careful about accounting for
how much drug use is deterred per unit of added harm, you quickly see that this
is a losing game (here and here). The total harm is always going up with increasing drug penalties, and it’s
because demand is inelastic.

Most people observe these large social costs and they get
the lesson completely backwards. They say, “Look at all these enormous social
costs! We need to get people to stop doing this!” They should be taking a step
back and saying, “Look at the enormous price people are willing to pay to
consume these substances. It’s going to be very difficult to deter such an
activity.”